Tuesday, January 28, 2014

The old saying "one bad apple spoils the bunch" holds especially true for company culture. Keeping around any employee who is a bad culture fit can destroy your team's working environment. If people think bad or counterproductive behavior is acceptable they will imprint on this and either start acting badly themselves or want to leave the company to work in a more positive environment.

Below are some of the typical types of people who can hurt your culture:1. The Jerk
The Jerk may be an incredibly effective and productive member of your team. Unfortunately they are also multiple of the following: prickly, arrogant, mean, dickish, short tempered, needlessly and constantly overly confrontational, credit mongering. Even if they are productive in their own rite, they make the working environment hellish for the people around them and must go. 2. The Whiner
The Whiner always point out the negatives in every situation. When the team accomplishes a great goal the Whiner points out all the bad parts of accomplishing the goal. You do not want people on your team who are mindlessly positive. However, ongoing negativity can really detract from the team environment. Even worse, whining has a tendency to spread and your culture can flip to a "we can accomplish anything" mindset to one of massive whining and defeatism.[1]3. Credit Taker
This person will take credit for others people work openly and unapologetically[2]. They will claim all the best ideas as their own and quickly disown or pawn off anything they came up with that did not work. This creates two problems: (a) the Credit Taker gets promoted or otherwise rewarded inappropriately and (b) the people who really deserve the credit and rewards don't get them. Like the Whiner, the Credit Taker's behavior will get emulated if rewarded or not addressed early.

4. Charming Do Nothing
Everyone loves this person. They are fun, charming, and great at presenting stuff. They always have an interesting idea or story. Unfortunately, they don't actually get anything done, and in some cases pawn off work they are supposed to be doing on others. All their energy and enthusiasm can make it seem like they are making great things happen (especially to the VP leading their overall group a few layers up in the organization), but really they spend most of their time shmoozing other people and reading news online. Keeping this sort of person around signals to the team that charm matters more then substance and a lack of execution will be overlooked or even rewarded.

Once your team has more of a management structure, an additional bad seed may emerge:5. Loyalty Monger
This manager promotes people who are personally loyal versus people who do the right things for the company. They will also purposefully misallocate credit - e.g. tell the CEO that one of their mediocre minions accomplished something that a non-loyal member of their team actually did. This may lead to the advancement of mediocre people over competent ones, as long as the mediocre people pledge the proper allegiance. For some reason, this type of manager is often very good at upwards-management and tends to rise themselves, pulling a cohort of the mediocre loyal up the ranks behind them. This screws up the culture in two ways:
a. Mediocre people are promoted and rewarded. They then have a larger voice in your company overall including company directions and hiring decisions.
b. People learn to be rewarded for optimizing for the success of their Loyalty Monger manager over the success of the company (since it is their manager who provides them with rewards rather then the company). This leads to behavior that does not put the company first.

It is sometimes hard to catch the Loyalty Monger as CEO as a 360 review yields lots of positive reviews from the people who have been improperly rewarded by them. The way to ferret them out is to watch who leaves their group. Often highly talented people focused on doing good for the company will do poorly under the Loyalty Monger. Similarly, if the Loyalty Monger's top lieutenants get bad reviews from their peers (e.g. a product manager reviewed poorly by all the engineers and designers they work with) that may be a sign of a Loyalty Monger in your ranks.

What To Do About It
Jack Welch[3] used to use a 2X2 matrix at GE to classify his employees.

On one axis is culture fit, on the other axis productivity. Welch's advice was as follows:

High Culture Fit, High Productivity. These are your Stars. Do whatever you can to promote, develop, and find more of these people.

High Culture Fit, Low Productivity. Give these people a second chance due to culture fit. If they can not become productive, you will need to let them go.

Low Culture Fit, Low Productivity. Let them go quickly. The lack of culture fit is the reason they should not be given a second chance.

Low Culture Fit, High Productivity. These people are dangerous to your company long term.

For most managers, the hardest people to decide what to do with are the people who are very productive, but a bad culture fit. As a manager you will be tempted to keep them around or even reward them, even though they make the lives of the people around them miserable. However, you should do the exact opposite and let them go quickly. These are the people pose the largest threat to your culture by providing bad behavior for others to copy. Additionally, they will hurt your culture by driving out their most productive and well intentioned peers.

With culture fit, you should never compromise. This bar should be the highest for the most visible and most productive of your team.

Notes:
[1] In some cases, people complain a lot if they are overloaded or legitimately concerned about something. In this case, as their manager you should ask why they are so unhappy/negative. If it is work load or other issues, this is often fixable and a Whiner can be turned into a more upbeat and positive contributor.

[2] One person I eventually worked with at Google claimed they "founded" the mobile team at Google on their resume/LinkedIn until recently, even though they joined the team when it had ~15 people. This is akin to joining Dropbox at 15 people and claiming you co-founded it.

Thursday, January 16, 2014

When tech companies get acquired there is almost always a thread kicked up on Hacker News about whether the company's product will survive the acquisition. In general, the type of acquisitionthe company goes through mirrors the likelihood its product will survive. The matrix below shows likely outcomes[1].

Notes:
[1] These numbers are more or less made up. I just ballparked things based on experience as well as the M&A Wikipedia pages for FB, GOOG, TWTR. If anyone does a more rigorous study please let me know and I will update this post accordingly.

Wednesday, January 15, 2014

Prior to the giant Nest acquisition, Google has long designed its own hardware to support its software businesses. Indeed, before optimizing AdWords as a business model Google also bet on selling enterprise search via a hardware appliance. Despite its traditional weakness in consumer electronics, Google has accomplished some pretty amazing things via specialized hardware designed for data collection (Street View, Google Books) or infrastructure. Below is a list of some of these initiatives:

Mainstream Services

1. Search.

Google's search engine was launched on low-cost multi-core servers. Google's approach to building distributed systems across a large number of machines spawned a variety of technology innovations such as Map Reduce. Google has even gone so far as to build the networking switches in its data centers.

2. Book Search.

Reasonably early in its life Google built robots to flip through pages and scan books. These books were OCRd and loaded into the Google Books index.

3. Street View.

Google built specialized hardware to sit on top of cars to photograph streets and storefronts around the world.

4. Search Appliance.

An enterprise search product sold as a box.

5. Nexus Phones.

Meant as proof points for the Android OS to push handset manufacturers to embrace what Android was capable of.

Emerging Services

1. Self-Driving Cars.

Hardware-based sensors coupled to algorithms and software to allow cars to self-navigate.

2. Google Glass.

Early wearable computing platform. Below is a typical day in San Francisco for a Glass owner.

3. Robotics TBD.

Google has recently made a large number of robotics-related acquisitions. The first application to be launched in this area is still TBD.

4. Loon.

Balloons carrying internet connectivity around the world.

5. Google Fiber.

High bandwidth consumer networking deployments.

Google's increasing interest in consumer electronics (Nexus, Glass, Nest) and big bets (Self Driving Cars, Loon, etc.) is likely to yield some substantial outcomes over time when married to Google's exceptional expertise in AI and consumer software.

It will be interesting to see what role the Nest founders play in Google's consumer electronics future and what areas beyond Nest they are tasked with (if any) over time.

As an aside, one interpretation of this deal is that Google wants to solidify the position of Android and Chome as the OS layer for mobile devices including those in the home and to create a de facto standard over time for how multiple "semi-smart" internet connected devices interact with one another.

Friday, January 3, 2014

A number of early employees at startups have recently pinged me to ask about how to sell secondary shares. Below is a short primer.

A Short Guide To Selling Secondary Stock0. Understand if you can sell some stock.
Check your stock option plan or other company documents to see whether you can sell secondary stock. If your company has a general counsel, you can also ask them about the details of what you can or can not do. Alternatively, some later stage companies have a person on the finance team dedicated to secondary transactions or the CFO may be the right point of contact.

From a process perspective, most companies will have a 30 or 60 day Right of First Refusal (ROFR). This means the company can decide if it wants to purchase your shares instead of the buyer you negotiated a price with. If not, the existing investors in the company also often have a ROFR and are asked if they want to buy your shares. If everyone passes, then the original buyer can purchase the shares from you. If the company or its existing investors want to exercise their right of first refusal to buy the shares, they will pay you the same price you negotiated with the buyer. So even if a ROFR is invoked, you will be able to sell your shares.

Waiving the ROFR typically takes about 30 days but in some cases can be longer, so you need to plan for this when selling stock.

Remember, right before the IPO a company will often halt trading it is shares - which means you may not be able to sell for a few months before the IPO and then another 6 months after the company is public.

1. Decide how much to sell.
The decision on how much to sell may be driven by a few factors including:a. Are you leaving the company and need to exercise options?
Most companies require you to exercise your stock options within 90 days of leaving or you lose all the options you worked years to obtain. In this case you need to start thinking of how to do a secondary sale shortly after leaving the company. You will need to decide whether to sell enough to just cover taxes on the full set of options you exercise, or if you want to sell more to take some money off the table as well.

b. Diversify your portfolio.
If 99% of your net worth is tied up in company stock, you may want to take some money off the table to protect from a black swan event that will cut your net worth dramatically all at once. I know a number of people from e.g. Zynga who saw their net worth drop 70% with the stock price.

c. Get cash you can use today.
Even if your company is close to going public, you may want some short term liquidity to allow you to buy a house, car, pay for your kid's school, or the like. Remember, just because your company files does not mean it will quickly go public, and even after it goes public you may get locked up for 6 months of uncertainty.

d. Taxes.
There may be large tax considerations depending on the timing of selling your stock. A number of people sold secondary stock in 2012 to avoid the tax hikes of 2013. Talk to an accountant before making any sales.

Many people end up selling 20-50% of their stake pre-IPO for the reasons above. If you really need the cash or just want security, you may sell your entire stake in a secondary transaction.

2. Find a legitimate buyer.
Buyers of secondary stock are diverse. There are dedicated secondary funds, hedge funds, family offices, individual investors and angels, dentists, and a random assortment of yahoos who operate in this opaque market.

In general, you want to find a buyer who:a. Has the funds available.
If you are doing a large transaction, ask for proof of funds or make sure the person or entity is a well known investor. Some secondary funds will offer you a price, and then go raise money AFTER you sign a contract with them to fund the transaction. Don't get stuck waiting for them to raise a fund to buy your shares.

b. Will move quickly.
Avoid situations where there are multiple decision makers between the purchase and the person offering to buy the shares. E.g. some secondary funds will have a decision making committee that only meets periodically.

c. Has invested in private securities before.
If dealing with high net worth individuals (versus funds) make sure the buyer understands the secondary process, the risks involved, and the various steps needed to close a transaction quickly.

d. Won't be a pain in the butt to the company.
Adding a dentist from Ottawa to the company's list of shareholders may do your employer a disservice. They may be willing to pay more for your shares than a professional buyer would. But random buyers may bring volatile properties (e.g. they may sue your company for no good reason). Only transact with random people if you don't mind burning bridges back to your employer.

e. Your company will approve quickly.
Optimally, you want buyers your company knows or is willing to add to the cap table quickly. Some funds have had problems with the SEC in the past around secondary purchases, which means your company may not want them to buy your stock.

3. Figure out the price you want.
Private market transactions are highly illiquid and volatile[1]. There are always rumors of higher and lower prices somebody got on their stock. Or, illegitimate buyers may suggest prices for stock that they cant or wont really pay to test the market. Often these transaction don't go through and muddy the perception of the real market price.

To get a sense of the market for the stock:-Ask colleagues selling stock what they are getting for their shares in transactions that have actually gone through. This should be what transactions actually closed, versus offers they have received. Unclosed transactions are often meaningless.-Don't be too greedy. Focus on speed of closing at a price you are comfortable with. Unless you are selling a very large block, 5 cents a share won't make much of a difference if the stock is at $18 a share.

Rules of thumb:-Common stock often has a discount to the last preferred stock price[2]. This is on the order of 30%. E.g. if your company just raised at a $240 million valuation, you may expect to sell your common stock at $160 to $200 million. If the fundraise took place many months before your sale, and the company has made progress since then, you can typically sell at the preferred stock price[3]. You should by all means ask for the last company preferred valuation, but investors may not be willing to pay[2]. As the company gets more valuable/later stage, the spread between common and preferred stock will disappear.

-IPO volatility. There is typically a sharp run up in secondary prices you can get in the weeks before a company halts secondary transactions directly before an IPO. In some cases these prices will be higher then the post-IPO stock price (see e.g. the first year of Facebook)[4]. If you want to sell, don't get overly greedy during this period. Prices are rising so quickly you keep trying to hold out for an even better price. Remember, the price is moving quickly because the company is about to stop all secondary trades. So if you over optimize and don't sell you may prevented by the company from any selling for an uncertain period of time. The root of uncertainty is that not every company that intends to go public will do so immediately. I.e. post filing a company may wait for many months (or quarters) before going public due to market conditions. Once the company does go public you will be locked up for another 6 months. If the IPO gets delayed, you can end up with a bunch of illiquid stock and ongoing market risk.

-Expect things to move up and down in a semi-random fashion. In a market with limited numbers of buyers and sellers prices may move all over the place. If one of the founders dumps a large block of stock at a low price to diversify, it may depress prices for everyone.

-Don't forget taxes. Talk to your accountant. E.g. selling in one year versus another may impact the taxes you pay. Similarly, if the stock when you bought it was a qualified small business, there may be very large benefits to holding the stock longer, or future tax breaks depending on how you re-invest the money you just made.

4. See if company wants to have their legal counsel run the transaction.
Many companies will have the Stock Purchase Agreement (SPA) they want you to use to sell their shares. If not, you can use one of the major Silicon Valley firms to put together the paperwork. Typically you will need a stock purchase agreement. Sometimes, you may need additional paperwork such as a third party legal opinion that you legitimately own the shares you are selling (this is usually only needed if there is a large secondary market for a company's shares with lots of buyers and sellers. At some point you can get people acting badly in the market and selling shares that don't exist).

5. Terms to include.
You want to make sure the paperwork for the secondary transaction includes basic items such as:
a. The buyer is obligated to fund the shares within X days of being able to do so. I.e. if they do not wire money to you within a week of the sale closing you can void the transaction.
b. The seller is obligated to sell the shares and can't back out.
c. If the company blocks the transaction or exerts its right of first refusal (ROFR) the contract is voided.

I am not a lawyer and completely unqualified to give legal (or frankly, any other) advice. So talk with your lawyers on this.

6. More complex transactions.
There are some secondary funds that will offer more complex transactions that will allow you to benefit from the upside of your stock in the future while cashing out today. In some cases you take a loan out against your shares and then split the upside of the stock with the lender. Alternatively, you outright sell them the shares, but have a contract in place that above a certain dollar amount you split the upside. An example of this would be selling your stock for $25 per share, but then splitting any appreciation of the stock above $30 per share. So if the stock sells for $32 you end up with $26 a share ($25 plus ($32-$30)/2).

Thanks to Naval Ravikant for reviewing and providing feedback on this post.

Notes
[1] There are always rumors that a stock is selling for much higher and much lower prices. In my experience, these rumors often turn our to be false. Focus on closed transactions where money changed hands versus "a friend of a friend was offered $X but did not sell".

[2] The reason for this discount is that preferred stock gets paid out first if the company exits at lower then its last rounds valuation. So while preferred stock has "insurance" that makes it more likely to get paid in full, common stock does not, hence the discount. As a company gets more valuable and has more traction, the risk of a low exit goes down, and the gap in price between common and preferred shrinks and eventually disappears.

In some cases, as part of a financing round, a venture firm will buy common shares from founders at the same time it buys preferred stock from the company. In this case, the venture firm will pay the same price for preferred and common as:
-It wants to help the founders partially cash out.
-The percentage of common it owns is low enough to not be material versus its preferred stock position.

[3] If you work for a super hot company that has made a ton of progress since its last round, and a lot of time has passed since the funding, then you can demand a premium to the last round of funding. Companies also track their own internal valuation at board meetings and via 409(a)s, so you can also ask the company what price they think the company is now worth in order to set price.

[4] I know a number of investors who stopped buying secondary shares after they got "burned" by speculating on Facebook pre-IPO.

Thursday, January 2, 2014

I have recently seen two tech businesses run into the ground despite their products having thriving user bases. I was not formally involved with either company, but got a close up look from time to time as the founders called for advice. In both cases, the founders confused building a product with running a business.

As the CEO, you need to keep your eye on the underlying product and business fundamentals of what you are doing. If you can not keep focused on the business side you must hire someone who will. Otherwise there is a reasonable chance your company will die. The two most common ways for a startup to die are founder conflicts and running out of cash. Running out of cash is often avoidable.

Cash Management Mistakes:1. Not raising enough money.
One founder who recently shuttered his company had a top tier investor invest $550K of what was supposed to be a $1MM round. The product had good user growth so the founder thought a big series A would be easy and decided to wait instead of raising the rest of the money. He hired too many people and and ran out of money when no one would fund him. Instead, the founder should have raised the $1MM seed to its completion when he had a chance. The easiest time to raise money is when you already have momentum on a round. Don't wait for the perfect moment to raise. Just get it done.

2. Overspending.
This includes hiring a team larger then your cash can support, hiring an expensive PR team, or paying early people too much salary relative to the stage of the company. The faster you spend your funding, the less time you have to survive.

Another entrepreneur I know had 3 months of runway left and decided to do a PR blitz for $25,000 to get investor interest up for a bridge round. This blitz evaporated 2 weeks of runway and made investors even less likely to fund the company. The less runway you have, the less likely people are to fund you.

At 4-6 months of runway left, you should raise a round (these can take 3 months). Your other options include laying off members of the team to extend your runway, or to increase how much you charge for your product.

At 1-2 months of runway, raising money from smaller angels becomes dramatically harder as they worry you are about to become a black hole for their money. Only people who can write larger checks can fund you at this point, reducing your options and momentum.[3]

3. Sticking to "free" when you should be making money.
There is a Silicon Valley mantra of offering things for free to get scale, and then monetizing later. This works for some products (e.g. social media) where locking in a network effect by focusing all resources on growth early on makes sense. During a social site's hypergrowth, any engineer used to build monetization is wasted relative to growing the product.

However, many products have monetization built directly into them and work just as well as a free product. Would AirBnB have grown any faster if they did not charge a transaction fee? Would Dropbox not reached 200 million users if it did not charge for more storage[1]?

Silicon Valley is too wed to the concept of making things free to go for share. I have worked at two companies where this early approach worked (Google[2] and Twitter) but the lesson I learned from observing other companies is that "free product going for scale" model needs to be applied thoughtfully and usually only makes sense if you have someone other then your user pay eventually (i.e. ads supported businesses). As an aside, most companies focused on "getting big fast and then selling aggregate data" tend to fail.

4. Bad pricing.
One way to extend your runway is to price your product well. Many founders make arbitrary pricing decisions that they can not back up with any logic. E.g. why did you charge $4.99 / month instead of $9.99? Double the revenue per user can be incredibly meaningful to your runway if it does not impact user adoption.

One way to make more money through pricing is to segment your users. When VMWare first launched it had a "hobbyist" price and a "business" user price. They did not even enforce who went into which tier, but had both tiers available for people to sign up for. You can also discriminate pricing based on features provided in the product, amount of usage etc.

Pricing can give you enormous returns on effort. You can just run a spreadsheet and make assumptions about how to segment your users into different pricing buckets, or how changing pricing may impact user growth and revenue. If you only have a few months of cash left, you may want to buckle down and focus on making money even if growth stalls. In some cases, you just need to price things properly to buy yourself runway to survive.

5. Inventory turns and cash flow.
Jeff Bezos talksa lot about free cash flow. Even if a company is "profitable" it can constantly be squeezed for cash. If you have a supply chain, if at all possible you need to bargain to get the float on transactions relative to the chain of suppliers->you->customers. You can read more about this here.

Other Business Issues
Besides cash management, there are a number of business issues that can royally screw up your business. These include: agreeing to bad financing terms (too many entrepreneurs don't try to understand what their funding round actually mean), bad partnership deals (beware of exclusivity or equity commitments), acquisitions (lots of distractions and screw ups here even if an acquisition doesn't go through), and on and on...

Ultimately, poor cash management is still the quickest way for startups to die young. Watching your runway, and figuring out how to turn your product into a self-sustaining business, is crucial for your success as a company.

Notes
[1] Don't confuse "freemium" with free. Dropbox has a free tier that allows users to get addicted to the product and then upsells them at a well defined conversion rate. Similarly, Optimizely has a 30-day free trial period, but then charges for the product from that point on.

[2] Google actually tried a few ways to monetize before AdWords including selling enterprise search as well as syndicating search (without ads). In both cases, these markets proved to be too small. So, Google was actually trying to monetize as a much younger company then most people seem to recall in hindsight.

[3] The reason rational small investors drop out sooner is that their check doesn't buy you enough runway for you to escape shutting down the company. E.g. say you are burning $50K a month. A $25K investment from a small angel just covers two weeks of burn - hardly enough time to change momentum or raise more money.